Sunday, 26 June 2016

Against the odds, rational
arguments and cost-benefit analysis, the good people of the United Kingdom voted to leave the European
Union in a referendum on 23 June. The news sent shockwaves throughout the
world and a long period of institutional uncertainty is likely to follow. The
UK economy is expected to be hit hard by the decision, with growth being flat
or negative. The uncertainty could spill over to neighbouring European
countries, and forecasters around the world are revising down growth projections
as a result.

How does an event
of such seismic proportion impact the economies of the Arab world? The short
answer is: not much for now.

For the long answer,
we need to consider three channels.

1. The trade channel.
If
Brexit leads to slower growth in the UK or a recession, then the demand
for imports in the UK will fall, hurting the UK’s trade partners in the Arab
world. But the impact of this channel is limited because the UK is not a large export
destination for any country in the region.

Take Qatar for
instance. It is the UK’s largest trade partner in the Arab world, but the value
of its exports to the UK is still small relative to the size of the economy at
only 1.6% of Qatari GDP. Even if UK imports drop by 12% this year (one of the
most pessimistic estimates), the impact on the Qatari economy will be small at
only 0.2% of GDP.

2. The financial
channel. Brexit
has spooked financial markets, causing investors to hold safe assets such
US or German bonds and shun riskier assets like stocks or emerging market
bonds. This was evident in the stock-market meltdown on Friday 24 June, following
the announcement of the referendum results.

How does this
affect the Arab world? Many countries in the region, especially oil exporters, are looking to borrow from global markets to finance their deficits following
the decline in oil prices. Analysts expect 2016 to register record borrowing
from the Middle East on global financial markets. But the appetite from global markets to absorb this might diminish as a result of Brexit. Consequently, Arab countries might find it more challenging to finance their deficits with external debt.

But even the impact
from this channel is mitigated by three factors. First, some countries in the
region, such as Oman,
Qatar
and the
UAE, have already secured funding from global markets, and have little need
or requirement for further borrowing. Second, some countries, especially
Algeria and those in the Gulf, have significant foreign reserves which they
could use to finance themselves if global conditions tighten. Third, other
countries are on a programme with the International Monetary Fund (most
recently Iraq,
Jordan and
Tunisia)
and can secure their funding requirements through the IMF.

3. The investment
channel. Some Arab countries have investments in global firms and real estate
through their sovereign wealth funds. And return from these investments could
be hit by Brexit.

But again, the
impact from this channel is likely to be limited as sovereign wealth funds
have long investment horizons and are less sensitive to short-term movements in
the value of their assets. Indeed, even the global financial crisis of 2008 did
not seem to cause lasting damage to the region’s sovereign wealth funds.

So the bottom line
is that the economies of the Arab world are relatively immune from Brexit,
provided that Brexit remains localised and does not trigger an outright global
crisis. In the meantime, the region is far more exposed to oil prices, attempts
to diversify many of its economies and security issues, which pose more
immediate and serious problems than Brexit.

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About Me (Ziad Daoud)

I am an economist currently based in the Middle East. I have previously worked for an asset management firm and, before that, I did a PhD at the London School of Economics. The views in this blog are solely my own.